Consolidation and Streaming Are Making Hollywood Back-End Deals Less Transparent Than Ever

In June 2014, Miramax Film Corp. and the Saul Zaentz Company settled a $20-million lawsuit over profit sharing on Zaentz’s 1996 Best Picture winner “The English Patient.” The celebrated film earned $232 million at the box office and a reported $75 million in video sales.

Zaentz claimed Miramax, then owned by Disney, had padded expenses to reduce the profits — thus reducing Zaentz’s percentage payout. Miramax, he argued, shouldn’t have deducted $17.5 million of theatrical advertising expenses, since the money also benefited the home entertainment release of the movie.

That wasn’t the only time Zaentz had battled over the backend — Hollywoodspeak for taking a percentage of the profits in lieu of a bigger upfront fee. In 2005, the music and movie mogul behind “Amadeus” and “One Flew Over the Cuckoo’s Nest” reached an out-of-court settlement in his $20 million suit against New Line Cinema over foreign royalties from “The Lord of the Rings” movie trilogy. Settlement terms were not disclosed.

For decades, the entertainment industry has complained that so-called “Hollywood accounting” has been used to hide movie and TV profits as various expenses in order for studios to avoid paying big sums on backend deals.

Now the recent structural transformation of Hollywood — including company mergers and studios launching their own streaming services — is making the process of calculating profits for producers and talent less transparent than ever before, industry accounting experts and legal consultants tell TheWrap.

Mega-entertainment companies such as Disney and Warner Bros. Discovery can effectively sell content created by their own production or distribution arms to their own streaming services — with less motivation to sell the project to the highest bidder.

“In the last 10 years, it’s become a much bigger issue, it’s really one party paying themselves… one party moving money from one pocket to the other pocket,” Michael Sippel, founder of Sippel Advisory and a veteran Hollywood accountant, told TheWrap. “It wouldn’t make any difference if they paid themselves $10, or $10 million.”

The difference today, Sippel said, is that the studios and entertainment distributors “have profit participation liabilities related to those entitled to a backend percentage of the profits. Therefore, there’s a slight motivation to make those license fees that they pay to themselves as low as possible.”

Disputes can arise when certain strategies that appear to benefit the studio or distributor as a whole fail to align with the contractual benefits afforded to the individual profit participants, Anita Wu, managing director, profit participation services at GHJ, a national advisory and accounting firm with numerous Hollywood clients, told TheWrap. In other words, “when a studio that owns its own television and/or streaming service keeps content for itself rather than bringing it to market,” she said.

The shift in today’s vertically integrated entertainment marketplace means “it’s more important than ever for the talent, creators and investors of successful projects to ensure the distributor is properly reporting fair market values,” Sippel said. “Keeping the distributors honest can sometimes be the difference between achieving profits — or not.”

Sippel pointed out that studios tend to argue that they deal as aggressively with an outside buyer as they would with divisions of their company, but “the question is, does it really happen?” he said.

Increasingly, there are disconnects between what a project produces in revenues and what profit participants expect per their contracts. By increasing the reported production costs, by including items such as interest payments or promotional expenses, the “profits” can be significantly lower than the participants predicted.

“A client will be reading the trades, and it says X picture generated $300 million at the box office, and then they get a statement in the mail from the studio that says ‘You’re $100 million dollars in the hole,’” said Steven Sills, author of “Movie Money: Understanding Hollywood’s (Creative) Accounting Practices” and a recently retired industry accountant. “And they say, ‘How can this possibly be?’’

Added Sills, “You have to go and explain to them, well, look at your contract.”

A problem as old as Old Hollywood

When did Hollywood profit sharing begin? Thank — or blame — good old Jimmy Stewart — and his agent, Lew Wasserman.

In 1950 James Stewart was arguably the first major movie star to strike a profit participation deal, in his case with Universal Pictures for the movie “Winchester ’73.”

At the time, actors were locked into exclusive salaried contracts with the major studios, usually five or seven years. Instead of an upfront salary, Wasserman negotiated for Stewart to receive 50% of the film’s net profits. If the film did not break even, Stewart would not be paid for his work. As a result of sharing the risk, Stewart ended up with $600,000 — three times his usual per-movie salary of $200,000 (and equivalent to roughly $6.5 million dollars in 2021, according to a report by USC Entertainment Law.)

However, many subsequent backend deals have failed to provide the producers with Stewart’s wonderful life.

Flash forward from Stewart’s 1950s to 2021, when Scarlett Johansson sued Disney over the studio’s decision to release “Black Widow” as a day-and-date title as the COVID-19 pandemic raged on.

She argued that Disney had promised the film would be released exclusively in theaters and that the decision to move it to a hybrid release cost her potential bonuses related to the film’s box office performance on top of her $20 million salary.

In between Stewart and ScarJo, other avenues of profit potential have entered — and exited — the market, including VHS and DVDs frequently rented or sold before streaming became the platform of choice for most home consumers.

Experts say most complaints are settled out of court — and with non-disclosure agreements, so the public never hears about them. The client with the backend deal must weigh the chance of additional profit against the cost of auditing the studio to see where profits might be hidden as interest costs, distribution fees or other vaguely defined categories.

Sills said that in the case of major projects with huge publicly reported profits, most clients find it worth their while to pay for an audit — sometimes followed by a lawsuit.

Here are few high profile cases:

• “Who Wants to Be A Millionaire”: In 2010, creators Celador International, Inc. received a judgment of just over $269 million, and the company later received another $50 million after a judge awarded prejudgment interest to the British company. Celador, which first filed suit in 2004, argued that Disney and its affiliates ABC, Buena Vista Television and Valleycrest Production set up numerous shady deals and on-the-sly arrangements that robbed Celador of hundreds of millions in expected revenues.

• “Demolition Man”: In 2017, action star Sylvester Stallone filed suit against Warner Bros., stating that Stallone had received no profit participation for 18 years for the 1993 action movie, as detailed here. Per his contract, Stallone was reportedly entitled to at least 15% of gross profits from the film. The studio responded that the movie had a $67 million loss, so no profits. Warner Bros. later acknowledged that Stallone was entitled to additional profits, and paid him $2.8 million. That was not enough for Stallone, who settled for an additional undisclosed amount in 2019.

• “Bones” (TV series): In 2009, Fox reached a settlement in the long-standing profit participation lawsuit with “Bones” stars David Boreanaz and Emily Deschanel, executive producer Barry Josephson and Kathy Reichs, the forensic anthropologist whose books inspired the show.

The end of the backend deal?

While profit sharing deals may still be attractive to producers as a means to cut the initial costs of making a movie or TV show, Sills told TheWrap that stars and producers are less likely to see the gold at the end of the rainbow with the loss of profitable home markets for videos and CDs.

“There are less and less people receiving backend (deals),” Sills said. “Certainly in television, these things just don’t exist the way they used to. It was quite possible for a good television showrunner to make $100 million on a show. I don’t think you’ll ever see that happening again.”

Still, GHJ’s Wu said older movies and TV shows whose talent contracts pre-date streaming will remain part of the mix — and future legal action — for years to come. “We’re still auditing projects that have been out for decades,” Wu said. “And a lot of our clients are heirs of the original.”

In the case of Zaentz’s almost two-decade struggle with Miramax over “The English Patient,” the Oscar-winning producer did not live to enjoy his 2014 legal victory. He died five months before the settlement was reached.

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